Oracle is using an ugly 'nuclear option' to boost cloud sales, says consultant

Oracle executive chairman Larry Ellison. Michael Bradley/Getty Images) Oracle is all about the cloud these days, its execs say.

But there's a dark side to how Oracle is achieving some of those cloud revenues, a consultant tells Business Insider.

It involves pressuring some of its customers to add cloud to their contracts that they neither want nor plan to use by using a tactic insiders call "the nuclear option."

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Oracle whiffed on its fourth quarter last month, missing expectations on both revenue and profits in the quarter that is traditionally its strongest as salespeople push to close deals and make annual quotas.

Safra Catz Oracle CEO. Business Insider/Julie Bort It's now missed profit expectations for four of the last six quarters, including its last two fourth quarters. Revenue has been a miss in three of the last six quarters, too.

But one of Oracle's CEOs, Safra Catz, told analysts, "We are delighted with this quarter," because it blew past its own internal expectations for cloud-computing sales. Cloud accounted for about $2.3 billion out of $38.2 billion in revenue.

That's great because every $1 million of cloud contracts will be worth $10 million over the life of the customer, compared to being worth $3 million for a typical software contract, chairman Larry Ellison explained.

So what's the "nuclear option"?

It refers to something known as a "breach notice."

Oracle, like most big, old-school enterprise-software companies, licenses its software under complex legal conditions. Users have to pay for Oracle software using a variety of metrics such as how many are using the software and which features of the software are being used.

Craig Guarente, CEO of Palisade Compliance. Craig Guarente Oracle makes it extremely easy for admins to turn on new features or add more users, and then pay for that increased usage later. That system involves an "audit."

Oracle isn't the only one to do this. In Microsoft's world the audit is called the "true-up." In fact, buying enterprise software is so expensive and fraught with gotchas there's an entire consulting industry called "software asset management" to help companies navigate the pitfalls.

If Oracle finds a reason to bill the customer, that's when a negotiation dance begins.

"An audit is like a box of chocolates. You never know what going your going to get. It could be very pleasant, very nice, or not," says Craig Guarente, CEO of Oracle asset-management consultant Palisade Compliance.

Prior to launching Palisade in 2011, Guarente spent 16 years on the contract/auditing team at Oracle, rising to global vice president in charge of contracts, business practices, and the audit team. (In the early days, he sometimes represented customers on contract negotiations that he had personally signed.)

Much of the time, an audit is used as a sales tactic. Instead of simply paying a big bill, the customer agrees to buy more over the long haul.

If Oracle thinks the customer is really abusing the terms, it whips out the "breach notice," which warns a customer that they are in violation and must stop using all Oracle software in 30 days.

That's risky, because it allows the customer to walk away from its Oracle contracts.

Oracle coCEO Mark Hurd.Flicker/Oracle PR"If Oracle breaches, a client can terminate the agreement," says Guarente. The catch is, "they have to stop using the software."

Ripping a database that runs the entire company is no small thing. It can take years to make such a change — not a mere month.

So getting a breach notice can be a frightening thing that promptly draws companies to the negotiation table.

These days, to make the breach notice go away — or to reduce an outrageously high out-of-compliance fine — an Oracle sales rep often wants the customer to add cloud "credits" to the contract, according to Guarante and a previous report by CRN's Kevin McLaughlin.

This can be an incredibly lucrative outcome for the salesperson.

We've heard from various people that salespeople are being paid five to seven times higher commissions on cloud sales than they are on other products.

An Oracle spokesperson did not deny those compensation numbers, but told us, "We have incentive plans as part of compensation."

A new level of aggression

"We've seen an uptick in aggressive audits and breach notices," he says. "I started this company in late 2011. From that moment until February, I saw no breach notices. Zero. Now we've seen several this year."

Oracle Openworld. Oracle Another consultant he knows in Europe — where Oracle had an especially good quarter selling cloud — saw six so far in 2015.

That's obviously nothing compared to Oracle's gazillions of customers. But after asking around to his old friends and contacts who still work at the company, Guarente told us that more breach notices are happening everywhere.

"Internally, the water-cooler gossip there is that they've never seen this kind of aggression before. Oracle has really dialed it up," he said.

And some of Oracle's resellers have reported to CRN's Kevin McLaughlin that they are seeing the same thing: An increase of breach notices cured by adding cloud to a contract.

Unintended consequences

Oracle CEOs Mark Hurd and Safra Catz. AP It's one thing to use these kinds of aggressive tactics with traditional software sales. Once the company has bought the license, the sale is done.

However, with cloud computing the tactic can really backfire. If a customer isn't actually using the cloud, it won't generate that promised triple-digit revenue-per-customer that Ellison and CEOs Safra Catz and Mark Hurd are promising.

"Customers are buying cloud services to make the Oracle issue go away, not because they have any intention of using cloud services," Guarente says.

Oracle offered us no comment on the increased use of breach notices.

But a spokesperson told us this about cloud usage:

Customers often buy cloud because moving to the cloud is a strategic direction. A customer will choose to add cloud to their contract because they intend to stand up cloud as "test" environment as they move applications and workloads to the cloud, which is normal. They're going to want to understand how it works, that it meets all the various regulations and policies, has buy-in from all stakeholders, etc. … before putting it into a "production" environment.

Hurd told analysts that much of the company's cloud revenue was coming from brand new customers, not from selling cloud to existing customers.